Press Release

DBRS Morningstar’s Takeaways from IMN’s Virtual ABS East: C-PACE Can Be a Creative Tool for Financing in Pandemic Times

Property Assessed Clean Energy (PACE)
December 09, 2020

As part of its takeaways series, DBRS Morningstar is publishing several write-ups about pertinent topics discussed at IMN’s Virtual ABS East, an industry conference for the asset-backed securities sector. Stephanie Mah, Vice President of Structured Finance Research at DBRS Morningstar, was one of the speakers on a panel about commercial property assessed clean energy (C-PACE) financing. The other panelists included Joseph Lau, Chief Operating Officer at Lord Capital LLC (who was the moderator); Alexandra Cooley, Chief Operating Officer and Co-Founder of Greenworks Lending; Jamie Kocis, Partner and Deputy Chair at Kramer Levin; and Susan Morth, Chief Executive Officer of Energy Improvement Corporation NY PACE.

While C-PACE sounds like a green product—clean energy is in the acronym after all—is it merely a case of greenwashing? Greenwashing is a marketing ploy that intentionally misdirects people into thinking that the company is more green than it really is. However, the panelists don’t think C-PACE falls under greenwashing because the projects are limited to only what the state legislature allows to be financed under C-PACE. Most states allow for energy-efficient, energy-renewal, or water conservation upgrades to commercial buildings. Where states usually differ is if C-PACE includes resiliency upgrades that protect against natural disasters. For example, New York only allows for clean energy upgrades, but fire-hardening upgrades qualify for C-PACE financing in California. Regardless, there is a beneficial outcome at the heart of these C-PACE financing projects.

Some states allow for retroactive C-PACE financing on projects completed within two years, which could prove to be helpful during the Coronavirus Disease (COVID-19) pandemic. The hypothetical example came up of a hotel that was built in 2019 and failed to meet cash flow expectations in 2020. C-PACE can get some cash to the borrower if there were projects completed that qualify. The borrower can then defer payments for a time or only pay interest. This can take some pressure off the borrower until the economy recovers. One of the panelists brought up a real world example of this happening: the Metropolitan Opera House in Philadelphia. It received $6 million in C-PACE financing for energy efficiency upgrades back in 2018. Like many music venues and theaters, there have not been many shows in 2020, drying up cash flow.

Many of the panelists review similar factors when evaluating C-PACE assets, such as the location of the property, any potential environmental liabilities, and the likelihood that construction will be completed. Mah outlined other areas that DBRS Morningstar looks at when analyzing these assets. “From our perspective, the primary risk in C-PACE securitizations is liquidity. DBRS Morningstar focuses on property type and location as the main drivers in estimating delinquency probabilities for pooled C-PACE transactions, whereas for single-asset C-PACE securitizations, we use an LTV [loan-to-value] driven model.” The essential question is if liquidation proceeds from a foreclosure sale will be enough to bring the C-PACE assessment current. Mah also mentioned abandonment risk, meaning that the land is condemned or permanently unusable. To address the risk, DBRS Morningstar assumes a loss severity at the portfolio level.

Ultimately, if the C-PACE assessment does become delinquent, however, both the borrower and mortgage lender have strong incentives to rectify the delinquency. C-PACE LTV ratios are typically 30% or lower, which encourage the borrower to bring the payment current to prevent foreclosure. The low C-PACE LTV motivates the mortgage lender to cure the delinquency to preserve the lien on the property.

DBRS Morningstar is seeing this in action. Across its rated portfolio of C-PACE deals, delinquencies, as measured by loan balance, have mostly been below 4%. Most delinquencies were rectified within a short time frame, within one to two payment periods.

The panelists agreed that the industry is in the growth stage. According to PACENation, more than 2,500 projects have been financed to date, totaling about $1.9 billion. There are very few public securitizations backed by C-PACE assessments; most happen in the private securitization market. DBRS Morningstar expects securitization volume (both public and private) in 2020 to stay at about the same level as last year, which is a good sign considering how difficult this year has been for other industries.

Written by Caitlin Veno

Notes:
For more information on C-PACE, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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